Most economists are forecasting that the Bank Rate will remain unchanged until after the federal election in Canada. Only 3 months ago, the same economists thought rates would stay flat until mid-2020! What changed? Reading between the lines, Mortgage Sandbox believes the economists predicted flat rates because they were uncertain where the economy was going. In other words, they figured it was a 50/50 chance between the economy doing better or hitting a recession.
Now they’re starting to predict rate drops. Some even predict 2 rate drops by March 2020! The Bank Rate set by the Bank of Canada Rates is raised when the economy is doing well but if there is a recession then low rates are used to stimulate the economy. Since the economic forecasters are expecting rates to begin dropping it implies they are factoring in an economic slowdown. That may be helpful for moderating red-hot real estate markets in Central and Eastern Canada but it’s bad news for home sellers in Western Canada who are already struggling with weak demand.
This article will examine the forecasts for floating variable rates and 5-year fixed rates. Keep reading to learn what the big banks are saying about rates.
The Bank Rate has been unchanged at 1.75% since October 2018 and is broadly expected to stay unchanged until November or December of 2019. On September 4th, the most recent Bank of Canada rate announcement, the governor left rates unchanged even though the U.S. and Europe have signalled they may cut rates to respond to weaker economic activity. The economists at National Bank are predicting the highest rate increases beginning in late 2020. Scotiabank, one of the most active mortgage lenders, predicts rates will drop in late 2019 and again in early 2020.
No matter how well-researched and modelled an economist’s prediction is, mortgage rate forecasts are still only educated guesses and, at best, they are as accurate as a weather forecast. They further into the future that a forecast is made, the less accurate it is. Most of last year’s forecasts did, however, correctly anticipate three rate hikes, but they didn’t predict an economic cooldown that would put a pause on rate hikes.
The Canadian economy shrank last December and has continued to struggle since. TD’s Brian DePratto says, “developments of late suggest the risks tilt towards less growth than might have otherwise been the case." A housing slowdown in Western Canada will not help growth either. A recent Financial Post article reported that recent Canadian growth figures reveal a softening of core growth indicators.
Realtors often say that housing prices will continue to skyrocket because of economic growth, but we’re looking at some drastically different results.
Housing prices in cities with strong economic growth, such as Vancouver and Toronto, have recently seen some pretty substantial drops in transaction activity, which have not been positive for the economy. Fewer homes being purchased will be directly reflected in less business for realtors, mortgage brokers and banks, home inspectors and appraisers, and real estate lawyers. It can also lead to delayed condo developments and a decline in work for the trades who build these projects.
Rising home prices do not guarantee economic growth. Mathematically, if home prices rise 10% but the number of homes sold by drops 10% the combined value of properties sold drops by 1%. Realtors and mortgage brokers get commissions influenced by the price of a property sold or the size of the mortgage, while other professionals charge a flat fee for each transaction and these professional would experience a 10% drop in income. Vancouver and Toronto have seen transaction volumes drop by 25% to 50% depending on the sub-market.
The Bank Rate is still below what would be considered a normal range. According to the Bank of Canada, “Governing Council continues to judge that the policy interest rate will need to rise over time into a neutral range to achieve the inflation target.” Essentially, this policy implies that if Canada manages to avoid a recession then rates will continue to rise.
Earlier in 2019, there was a consensus that interest rates would eventually rise but that is no longer the case. In the near-term, Bank Rate and Canadian Prime Rates hikes are on a pause for the foreseeable future and an interest rate drop is more likely than a rate increase.
Variable and adjustable mortgage rates are tied to the Bank Rate (the rate at which banks can borrow from the Bank of Canada). If the Bank Rate rises then prime rates offered by Canadian banks rise, as do variable mortgage rates.
In the short-run predictions, a majority of economists are sticking together and predicting that nothing will change. This is the safest forecast to make if you are facing a high degree of uncertainty. For an economist, if you’re wrong but everyone else forecasted incorrectly too, then your reputation is less tarnished than if you step outside the consensus and are shown to be wrong.
The long-term forecast has recently become much more interesting. Let’s just say a few economists have broken from the pack. Scotiabank, Central 1, and CIBC expects rate to drop at least by March 2020.
It is hard to predict a recession, but based on current information it is likely the Canadian prime rates that are used to calculate variable and adjustable mortgage rates will stay flay or drop between now and 2021. If the risk of rates rising still worries you then you should consider a fixed rate mortgage. Generally, we recommend variable rates when rates are flat or falling.
The average Canadian Bank economist predicts 5-year rates will drop further by the end of September. The scary part of this forecast is that dropping rates would be an appropriate bond-market response to an upcoming recession (i.e., investors are selling riskier investments and putting them in gold and government bonds).
The average forecast would see rates rise by less than a quarter of a percent by the beginning of 2021. In this forecast, National Bank of Canada has forecast rates will be almost 1% higher going into 2021 whereas Scotiabank (i.e., the economists expecting an economic slowdown) are expecting 5-year rates to be slightly lower than they are today.
Fears of a recession are nothing new and a recent TD Canada Trust report explores the topic. Another report from TD looks at the likelihood of a recession using their Financial Stress Indicator (FSI). As you can see, there was very little warning for the financial crisis between 2007-2008.
Yield curve inversion happens when long-term yields dip below short-term ones, is seen by some investors as a harbinger of economic recession. It could also be a source of damage for the economy, reducing the incentive for banks to lend and the motivation for investors to take on the long-term projects that tend to boost growth.
Canada has had an inverted yield curve since April of 2019 and yield curve inversion is a classic signal of a looming recession. A recent Financial Post article tells readers that an economic paper by the Federal Reserve Bank of San Francisco found that an inverted yield curve may accurately predict a recession 12 months into the future.
Lock in a 5-year fixed rate?
Buy a home now or wait for the next cycle?
For the next 12 months, fixed rates will probably be lower or the same as today. So, locking in today’s 3.00% 5-year mortgage rate will definitely start benefiting you if variable rates begin to climb. If you are inclined toward a fixed rate mortgage, our advice is to speak to a Mortgage Broker as early as possible to lock in a rate. You can lock in a rate up to 120 days before closing on a home sale or the renewal of your mortgage. If you are planning to sell or move in the next few years, however, locking in a rate can result in a large penalty fee if you cancel before the full term is completed. Just be sure that you factor this into your decision.
If you have a fair risk tolerance, variable rates seem like the best bet. Based on the latest forecasts, variable rates are more likely to fall than rise in the next two years and in a flat or falling rate environment variable rates generally save borrowers more in interest costs.
If you plan to buy in the next 3 years, be mindful that falling rates increase the amount of mortgage financing a bank can offer you. This means you have a larger home buying budget to work with and so will other buyers. On the other hand, rates will be dropping due to recession concerns and distressed sellers (e.g., laid off, divorce, bankruptcy) put downward pressure on home prices. It’s possible that low rates will provide more purchasing power in a market with dropping house prices. That would be a huge gain for home buyers. Home prices in Western Canadian markets have been steadily dropping since 2018, so don’t feel pressured to rush into the market and don’t pay more than the list price.
To get access to experts who know what every lender is doing, consult a mortgage broker. They have the broadest number of options to find you suitable financing.
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